The Problem with “Peak Oil” from an Economist’s Point of View

Michael Giberson

The National Geographic Daily News blog cites a new International Energy Agency report that pins 2006 as the year in which oil production rates attained a pace that will not be again matched. Or, in other words, 2006 was the year of “Peak Oil.”  That projection is just one scenario of several looked at by IEA, but in their view this scenario is the most likely outcome.

The Daily News blogger admits that the “peak” is not expected to be followed by significant declines – rather, IEA projects a leveling out of conventional oil production at levels just below 2006’s peak for at least the next 25 years and minor increases in unconventional oil production and minor increases in natural gas liquids production.  In short, the IEA’s report more resembles CERA’s undulating plateau story than peak anything.  Yet we are told the “age of cheap oil is over” and the consequences of relying on on natural gas liquids and unconventional fuels are “stark.”

A more reasonable characterization of IEA’s most likely scenario is that it estimates oil production will remain steady for the foreseeable future at around the level attained in 2006.  Scary? Rioting in the Streets? Stark?

No? Well, are you at least mildly concerned?

A lot of peak oil analysis leaves economists cold. After all, production levels are in part a result of production choices, and in markets production is driven in part by costs and prices.  The popular Hubbert’s Curve approach to modeling peak oil ignores all of this.  Here is a quote from a recent analysis by James L. Smith:

[Hubbert’s model] is problematic for economists since the volume (and timing) of ultimate recovery presumably depends upon price — which in turn depends upon demand, interest rates, and the cost of production — none of which are incorporated here. There is no assurance in Hubbert’s model that the projected rates of future production will actually clear the market. Although the prediction is simple, it is not credible due to neglect of these fundamental economic factors.

Smith also notes that “Empirical tests of [Hubbert-style analysis] … failed badly in predicting the peak, which reinforces economists’ theoretical objections to the underlying method.”

[And to be clear, I’m not asserting the IEA modeling is “peak oil analysis.” So far as I can seek, the peak attribution was that of the Nat Geo writer, not directly drawn from IEA’s projections.]

10 thoughts on “The Problem with “Peak Oil” from an Economist’s Point of View”

  1. A very good response to the Nat Geo writer, and to most of the peak oil advocates’ take on the IEA report. Rather than admitting or predicting “peak oil”, the IEA is as you say, predicting more of the same, with slow additions from unconventional oil equivalents.

    Had Hubbert continued to live with his senses intact, he would most likely have grown out of his peak oil phase by now.

  2. Peak oil is a mathematical fact.. .there is a finite amount of oil which can be produced, and so it must peak at some point.

    In economics terms, that means that at some point, increasing prices will be unable to stimulate increasing supply. In other words, something must cause the elasticity of oil supply to decease over time.

    Economists can “dislike” peak oil all they want, but their dislike will not change the above facts. We can “dislike” the fact that 2+2=4 as as much as we want. Increasing demand for 4 will not make it equal 5.

    So suppose that supply will stay constant as the elasticity of supply falls. That implies constant supply at increasing prices. I don’t know about you, but getting the same thing at higher (possibly much higher) cost does not sound like something I’m ready to be complacent about.

  3. Michael Giberson’s item popped up on a Google Alert I have on “Peak Oil”. I had not heard of the writter or his organisation prior to this item. Having read it I do wonder at the points being made. Reading the Nat Geo piece the writter quotes Fatih Birrol Chief Economist of the IEA as saying that conventional crude will fall from 70 mbpd today to 20 mbpd by 2035. Now to my view that is a decline in coventional crude production in any man’s language. I cannot see how it might be thought of as anything else.

    Inspection of the presentation pack of the IEA at its announcement seems to support that understanding. Indeed from inspection of the pack it would appear that the maintenance of the plateau relies heavily on “yet to be developed” and “yet to be found”.

    If indeed all we can expect from unconventional sources is a “minor increases” then indeed we do have a problem that needs to be addressed.

    Mr. Giberson is a little to sanguine to be taken seriousely. I think the latest IEA report should not be looked at as saying “business as usual”. IEA reports since 2008 have raised concerns that have not been addressed.

  4. EWG has what I think is a more realistic and sober assessment of oil production, which predicts a decline to around 40 million barrels per day from today’s almost 90 million barrels per day. Basically, the EWG analysts do not trust the Saudis’ assessment of recoverable reserves from Ghawar and other major (but aging) fields, based on the production decline rates experienced by other big fields, and also taking into account that the various OPEC players have always had an incentive (larger market allocation within OPEC) to inflate their reserve and production figures (e.g. lie to us).

    The IEA is, in my opinion, overly rosy and optimistic. Perhaps they are overly optimistic so as not to cause a near-term panic and immediate oil-hoarding by wealthy nations.

  5. I’m kinda leaning towards plateau oil, given the improvements in technology that make it economical to recover more “complicated” resources. $80/bbl prices and supplies may be flat for quite some time, esp. if other sources (nat’l gas) meet increasing demand…

  6. One thing that the author neglected to mention that even maintaining this plateau to 2035 according to the IEA would take Saudi Arabia producing 50% more than they currently do, and Irag tripling its production among other asumptions they make. For one thing the Saudis just in the past few months anounced that they have no intention of expanding their capacity beyond current levels in the future, because they want to prolong the life of their most important industry for future generations. (we could argue all day what their actual reason would be). As for Iraq, it is as likely that they will produce 0 barells by 2035 as it is that they will tripple their production. The IEA has been lowering their forecasts year after year in the recent past. I suspect in a few years even their currrent predictions will seem overly optimistic.
    Lastly, From an economist’s point of view this should be troubling, because continued global growth is crucial to maintaining the curent financial scheme. The elasticity of petroleum as a product is not very high as far as I know. And many of the things that people are looking to substitute with, such as corn ethanol, likelwise fall in the category that we would consider as highly inelastic, it is called food. Something we also need in increasing volume.

  7. What Tom said plus the author of this piece fails to address the fact that if oil availability plateaus while demand increases prices will go up until nobody can afford it.

    Since everything, and I mean everything, depends on oil to get manufactured and delivered to whomever needs it, as oil prices rise so will everything else. Run-away inflation.
    Exponential Function

  8. “..production levels are in part a result of production choices, and in markets production is driven in part by costs and prices..”

    Well understandably, the economists will continue to channel their analysis down to the parts which work within their purview.. costs and prices. There are other parts that don’t work as a result of Money, but instead drive costs and prices, which would include A)The amount of technology, sheer metal, and labor required to get each barrel of oil out of the ground, and B) The ratio of new discovery to the amount being drawn out each year.

    We do have new (and not so new) tools that help us improve extraction, help us reach deeper into the seabed, help us count existing fields as bigger than they once were, (at a new extraction cost, that is) We’ve been employing most of these for a couple decades already too, as far as that goes. “Tertiary Methods”.. We’re poking our straws around much more adroitly for those last dregs of milkshake at the bottom of the cup, in other words.

    The ‘big new’ discoveries are none of them all that big now. Maybe we’ll find a couple more supergiants, but look at this discovery rate, and at the likely extraction rate from these ‘big’ discoveries .. or to Paraphrase Bill Cosby’s God to Noah exchange, “How Long can you pump water?”

    The IEA clearly showed crude’s high-mark in ’06. If you want to bet that ‘other liquids’ , ‘reserve growth’ or some magical new discovery will turn that into a footnote, and that the supply of crude isn’t a Keystone that holds many of these other choices aloft, good luck with that. I think we’d be smart to be ready for the harder of these two, possible directions this could take us in, and not keep banking on having continued Good Luck in the energy that runs this whole thing.

    That’s what leaves me sort of cold with the Economist’s point of view on this issue.

    Bob

  9. The oil prices can be affected by demand of course, but also the price for oil spills will take a part. It is not just a matter of oil lost but also the payment for environmental recovery. The oil companies will be strongly forced to guarantee safety of every oil well and that can be increasing cost for them from now to the future.

  10. –Growth economies require a growing oil supply.
    –The thinking now is that Peak Oil will play out in the financial area, not in a rational shortage of something.
    –Every oil shortage to date has resulted in recession including the GFC.
    –Perpetual economic growth is a myth as we shall see when one required input is not available. Looks like it will be oil.
    –Once the economic growth bubble (for that is what it is in the historical sense) bursts, oil will be cheap but there will be no economic system to consume it at the current rate.

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